Industrial stocks have been on a tear, and there are various reasons for optimism. The Biden Administration’s Infrastructure Investment and Jobs Act (IIJA) authorized spending $850 billion across hundreds of different projects around the nation. Disbursement of that money is already well under way, with a great deal of jobs and economy activity arising as a result; this has been a massive stimulative event for industrial stocks.
In addition, technological breakthroughs are driving activity in the space. Electric vehicles and artificial intelligence, for example, are two megatrends that are creating numerous opportunities for industrial stocks.
But it’s not all good news for the sector. High interest rates are likely to serve as a major headwind to the sector going forward. The election this year could slam the brakes on further government investment in infrastructure. And in the hottest sectors, such as AI, sentiment seems to have gotten ahead of itself. All this makes it time to sell these three industrial stocks.
GE Aerospace (GE)
I’ve been a longtime proponent of GE Aerospace (NYSE:GE) stock. That’s because I’m a believer in CEO Larry Culp. Culp built an absolute powerhouse at Danaher (NYSE:DHR) in the early 2000s, and he was just the man for the job of fixing GE.
Under Culp’s leadership, GE sold or spun off almost all of its businesses, leaving it solely with its flagship aviation operation. Following the recent spin offs of its healthcare and energy divisons, the company renamed itself to GE Aerospace to reflect its new corporate direction. Everything is humming for the company, operationally speaking.
But at some point, enough is enough. GE stock has now run up from a (split-adjusted) $40 price in 2022 to more than $160 per share today. Even granting GE a sizable quality premium thanks to its CEO, things are still getting out of hand. The company, I’d reiterate, makes and services jet engines. This is not typically the sort of operation whose intrinsic value can quadruple in such a short period.
The aviation sector – some individual Boeing (NYSE:BA) technical problems excepted – is performing quite well right now. Travel demand came soaring back after the pandemic in what some have referred to as revenge spending. Airlines have raced to add capacity, increasing the opportunity for both new jet orders and servicing on existing planes.
I’d argue, however, that the positive sentiment has gone too far. Airlines, for all the positive results right now, remain a deeply cyclical industry. It seems likely that high interest rates and a slowing economy will eventually trip up the travel recovery. Meanwhile, with GE stock now selling at more than 30 times forward earnings, the valuation is quite steep for an industrial aviation company.
Eaton (ETN)
Eaton (NYSE:ETN) is an industrial company which offers engineered products primarily to support infrastructure, power solutions, and electrification.
Traditionally, Eaton has served industries such as aerospace and healthcare, offering solutions such as fuel pumps for airplanes and uninterruptable power supplies in medical centers. These sorts of specialized goods with a high cost of failure lead to steady revenues as customers are often reluctant to switch suppliers.
The legacy businesses aren’t what have the market excited, however. Rather, that’d be Eaton’s smaller but fast-growing operations supplying goods to data centers and the electric vehicle sector.
It’s understandable why investors are enthusiastic, as both of those categories should enjoy strong long-term growth. Data centers in particular are booming right now with the new developments in the generative AI space.
However, these revenue categories simply aren’t large enough yet to justify Eaton’s valuation, with shares of this usually sleepy industrial firm now up to 33 times earnings following an 85% rally over the past 12 months.
Morningstar’s Brian Bernard agrees that the current valuation is unsustainable. He sees shares as trading at a 42% premium to fair value today, and he gives Eaton stock a single star rating now, indicating that it is among the industrial stocks to sell.
Vertiv Holdings (VRT)
Vertiv Holdings (NYSE:VRT) designs, builds and maintains digital infrastructure. Specifically, it makes and services key components such as coolant systems that go into data centers and telecom networks among other use cases.
Like with Eaton, investors are extrapolating tremendous growth rates for Vertiv going forward. There’s certainly a possible scenario where AI growth maintains an exponential upward curve and Vertiv enjoys essentially unlimited demand.
However, investors should also be fully aware of the risk that demand peaks – or at a minimum growth greatly slows – in coming quarters. We already saw how fickle the market can be recently with Super Micro Computer (NASDAQ:SMCI), another AI components supplier whose shares plunged on slightly weaker-than-expected earnings.
Vertiv shares are up more than 500% over the past year. This has pushed the stock up to 90 times trailing earnings. If you believe the analyst estimates aren’t too optimistic, even then, Vertiv is still around 40 times projected 2024 earnings. If those earnings stop growing – let alone start going back down – VRT stock would get absolutely clobbered. Given this possibility, Vertiv is considered among the industrial stocks to sell.
On the date of publication, Ian Bezek held a long position in DHR stock. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
